The past month has been dominated by volatility in emerging-market currencies and growing fears about the potential for an emerging-market crisis. Investors are on the alert for financial, economic or political weaknesses and, concurrently, emerging-market vulnerabilities are growing. Genuine crises have so far been experienced by Turkey and Argentina, and The Economist Intelligence Unit has marked its growth forecasts for both economies down sharply. The turbulence experienced by Turkey and Argentina is a reminder of how difficult it can be for policymakers to regain market confidence where external imbalances are large and levels of foreign-currency debt are high. When macroeconomic conditions are fragile in this regard, policy credibility, especially related to monetary policy, becomes central. More recently, we have begun to see some contagion to other emerging markets as the Argentinian and Turkish crises have intensified. Over the past month a number of currencies have been hit in the sell-off. Apart from the Turkish lira and Argentinian peso, which have both seen falls of more than 40% since end-March, the Brazilian Real and the South African rand have declined by around 20%. For now, a full-blown emerging-market crisis should be averted, as few countries share the set of features to the same degree as Argentina and Turkey, but we expect the number of countries whose currencies will come under pressure to rise. It is likely that there will be periods of volatility as a number of key trends—tightening monetary conditions, the global trade dispute and heightened geopolitical risk—interact in challenging ways for emerging markets.

Global monetary conditions will tighten, albeit at a slower pace than we previously expected, providing a key trigger that raises the spectre of a full-blown emerging-market crisis. Heightened international risks will cause some central banks to delay or slow their plans to normalise monetary policy. However, the Federal Reserve (Fed, the US central bank) remains committed to raising interest rates. With US unemployment reaching new lows, but inflation remaining contained, we expect the Fed to continue to raise rates at a steady pace. Reflecting our revised outlook for US growth—stronger this year and weaker next year, we expect a total of four rate rises this year, followed by another three in 2019 as the Fed balances the risks of rising inflation against slowing growth. Most emerging-market economies should be able to weather this pace of monetary tightening, provided that their trading conditions remain favourable.

The US-China trade war will cause global growth to slow

Since the start of 2018 trade policy has become the biggest risk to our central forecast for global economic growth. We now expect this risk to materialise in the form of a bilateral trade war between the US and China, with negative consequences for global growth. Although the trade dispute between the US and the EU has paused for now, the dispute between the world's two largest economies shows signs of escalation. The US president, Donald Trump, has moved ahead with the vast majority of tariff increases on a further US$200bn-worth of Chinese imports. As the economic effects of these tariffs, and those already imposed in the trade dispute, increase over the remainder of 2018, we expect the Trump administration to come under increasing pressure to refrain from further tariff increases. This political pressure, combined with the Republicans' loss of the House of Representatives in the November mid-term elections, which is our expectation, will cause the Trump administration to rethink its trade strategy. At the heart of the dispute between China and the US is a disagreement over intellectual property and China's technology transfer practices, although the US trade team is divided on this issue, with Mr Trump also focusing on the US's trade deficit with China. Given this, discussions thus far between the two countries have failed to resolve the dispute, and a resolution looks unlikely in the short term. By 2019 this will dampen growth in both economies and act as a drag on growth in the wider global economy. Combined with softening economic growth in key emerging markets, especially those in Latin America, we expect global growth to slow to 2.8% in 2019, from 3% in 2018.

Growth in the US and China will slow more than expected in 2019

The trade war comes at a challenging time for the Chinese economy. Concerns over the strength of domestic demand have returned, as momentum in both private consumption and investment has weakened. Central to this slowdown is the deleveraging campaign that began in 2016. The effects of tighter monetary policy, corporate deleveraging efforts and a crackdown on shadow financing have become more apparent in the economy this year, having raised the cost and availability of capital for both firms and consumers. The trade war will lessen the focus on deleveraging, with authorities needing to take measures to support growth in the short term. We are likely to see a moderate easing in fiscal policy, such as cuts to taxes and fees, together with an easing of reserve requirements from the People's Bank of China (the central bank). There is recognition from policymakers, however, that capacity to support the economy will be limited by China's debt profile. On these assumptions we recently revised China's growth in 2019 down to 6.2%, from 6.4%. Although we expect growth to be maintained to reach the government's target of doubling real GDP this decade, the trade war has again raised the spectre of China's financial vulnerabilities, which will cloud the economy's outlook for the foreseeable future.

The trade war will also affect the US economy, which has so far had a stellar year in 2018. Last month we revised up our forecast for real GDP growth in 2018 to 2.8% (from 2.7%) to reflect faster than anticipated growth in the second quarter, of 4.1% in annualised terms, driven by rising domestic demand and a temporary surge in exports. The economy continues to receive support from the Trump administration's fiscal policies, as well as the ongoing strength in the labour market—the economy has added an average of over 200,000 jobs in January-August, and year-on-year wage growth reached 2.9% in August. However, the escalating trade dispute with China will start to weigh on growth later in 2018 and into 2019—we expect growth to slow in 2019 to 2.2%. The US manufacturing and agricultural sectors, in particular, will be hit by the trade dispute, and rising interest rates will cause private consumption to slow. Growth will continue to slow in 2020, reaching a nadir of 1.3%, as the lingering effects of the trade dispute, higher interest rates and softening corporate balance sheets result in a business-cycle slowdown. A mild recovery will take place in 2021‑22 as these impacts unwind, with growth averaging 1.8%.

Global trade is adapting to US protectionism

The rest of the world is adjusting to US protectionism by developing regional trade agreements and diversifying trade partners. The Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) will come into effect in early 2019, after Japan became the second country to ratify the agreement, and additional countries have expressed interest in joining. We expect more countries to join the CPTPP in the coming years. Japan became a central player in the push to finalise the deal after the US withdrew from the agreement. Further demonstrating the country's commitment to trade liberalisation, Japan signed the world's largest free-trade agreement with the EU this year. The main elements of the deal include the near elimination of tariffs on Japanese goods entering the EU, but those applied to EU goods by Japan will be reduced in a phased manner. Countries in Latin America, Africa and Asia are also looking to develop regional trade integration. We expect more countries to develop trade ties with new partners, risking the isolation of the US economy and the market share of US exporters.

Geopolitical risks foreshadow greater volatility

We also note the economic risks posed by the complex and deepening tensions in the Middle East. Various proxy conflicts between Iran and Saudi Arabia have the potential to further destabilise the region. Mr Trump's decision to withdraw the US from the Iran nuclear deal is another signal that the US is inclined to offer stronger support to its traditional allies in the region, Israel and Saudi Arabia, in the coming years. We expect regional security in the Middle East to deteriorate following the US withdrawal. The move gives hardliners in Iran the upper hand over their moderate counterparts, which is likely to lead to a more confrontational foreign policy. Most worryingly, a proxy conflict between Israel and Iran in Syria has a significant chance of escalating. After a month-long lull in activity following the upsurge in interventions in April-July, Israel renewed its attacks on Iranian military assets in Syria in early September, and resumed issuing warnings about ending Iran's military presence there. For global energy markets, we expect heightened geopolitical risk in the Middle East to lead to increased volatility in the coming months.